We recently had the opportunity to visit with a successful business owner who was ready to transition their business and move on to the next phase of their life.
We were referred by one of our own trusted advisors, a CPA with decades of experience serving the business community.
As we sat down and moved through the pleasantries, the business owner asserted that he knew he needed a business valuation, as our CPA friend had confirmed for him, as an essential first step in transitioning his business.
The next few minutes of conversation were quite interesting:
Arizona Business Transitions: “Well, we don’t think a valuation is the right first step.”
Business Owner: “Whoa! The CPA who referred you said that is the first thing I need to do. Why aren’t you and your referral partner singing from the same hymnbook?”
ABT: “That’s a great question and we understand your confusion. Let’s talk about where a valuation fits into planning your transition, OK?”
Valuation of a business is both an art and a science. It is an attempt to determine fair market value, a value that both the buyer and seller can agree upon having full knowledge of the relevant facts.
So, we peeled the onion together on various valuation methods:
- Book Value. Typically calculated as assets less liabilities, this is one of the simplest methods. In most cases, simple book value must be adjusted to more appropriately reflect fair market value.
- Future Cash Flow. This method looks at the present value of anticipated future income or cash flow generated by the business. In effect, the valuator capitalizes the company’s current earnings.
- Capitalization of Earnings. The capitalization of earnings method is well-suited for valuing a company whose earnings can be reasonably predicted.
- Appraised Value. Appraised value is accomplished through a third party. This is the most expensive way to establish the value of a business.
What Do You Really Need?
Next, we explained that a business valuation by a certified business valuation professional may be needed, if bank financing requires, if the buyer needs an independent valuation for a board of directors or other reason, and if there is a significant amount of intellectual or real property in the business requiring substantial appraisal efforts.
In most other instances, a certified valuation may simply be an unnecessary expense. As part of our Phase I Business Estate Planning we do with our clients, , we analyze the cash flow of the business (real and adjusted) and market conditions and work with our clients to understand their goals regarding price and what is a reasonable market price range would be for their business.
The limitation on our valuation range discussion and a certified valuation is that every business is only worth what someone is willing to pay for it. The most important factor in the sale of a business is the buyer…what are their reasons for wanting the business (strategic, financial, geographical, etc)?
We spend a great deal of time with our clients discussing all of the potential buyers of the business because while valuation may change as cash flow and market conditions change, the list of prospective and qualified buyers will not and the prospective buyer with the most to gain from a purchase will by nature pay the most money – regardless of what any valuation says.
Founder & Chief Executive Officer
Alex has advised hundreds of small businesses on strategic planning, business development and all areas of corporate finance, specializing in helping business owners sell their business or raise capital for growth and acquisition. In his work with business owners, he has found many have done very little planning for an eventual transition away from the day to day operations or out of the business altogether.
As a native Arizonan, his passion is working with and advising local companies and helping business owners gain comfort in their eventual retirement and have the knowledge that when the time comes to sell the business they have a well designed plan of action already in hand, a good idea of what that business is worth, and who the next owner will be. He founded Arizona Business Transitions to assist business owners plan for an exit or transition, even if that transition is not on the horizon.
Alex attended Brophy College Preparatory and graduated from DePauw University – Economics and Management. Member of the Tempe Diablos Charities. He lives in Tempe with his wife Trish and two boys, 10 year old Carter and 7 year old Aidan.